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Beware Of Easy California Municipal Bankruptcies

Santa Monica Mirror Archives

Thomas B. Elias, Columnist

Posted Apr. 13, 2013, 7:58 am

Tom Elias / Mirror Columnist

No one is seriously suggesting that California will soon
become another Cyprus, the Greek-speaking Mediterranean island nation whose
economic bailout plan includes dunning holders of “large” bank accounts as much
as half their holdings and freezing the rest.

But since a federal bankruptcy judge gave the go-ahead
for the city of Stockton to seek shelter from more than $1 billion in debts via
Chapter 9 bankruptcy, alarm bells have been ringing loudly in the heads of
municipal bond investors.

They’ve already seen California cities and counties file
four of the five largest municipal bankruptcies in U.S. history, beginning with
the $4 billion 1994 Orange County debacle, and then Vallejo’s $175 million case
in 2008 and the in-progress cases of Stockton and San Bernardino.

If you’re the chief of municipal bond investing for a big
bank, whether on Wall Street or in San Francisco, Los Angeles or Chicago, this
gets your attention. You might hesitate to lend hundreds of millions of dollars
to other cities and counties if you fear they might go the Stockton route. Even
if you proceed, you might insist on higher interest rates to compensate for
what now appears to be added risk. That can translate to higher local taxes.

If you hesitate or insist on high interest, what happens
to school remodeling plans, sewer expansions and repairs, park purchases, water
facilities and scores of other civic projects that won’t be built without
borrowed money?

There’s also the question of who might go to work for
cities and counties, some risking their lives at times as police officers or
firefighters, if Stockton should be allowed to weasel out of salary and pension
obligations the city and its voters agreed to.

That’s why the hosannas that greeted the early April
decision by veteran Judge Christopher Klein allowing Stockton to proceed seem
premature and hollow.

Even Stockton’s city manager, a major player in his
city’s bankruptcy filing, was subdued after the Klein ruling went his way.
“There’s nothing to celebrate about bankruptcy,” said Bob Deis.

One who crowed was former Los Angeles Mayor Richard
Riordan, who long has believed his city may need bankruptcy to escape some of
its pension obligations. Said Riordan, “If I was a union leader, I would be
shaking in my boots. I think the unions should be scared stiff.”

There are plenty of other cities unhappy with their debts
and possibly unable to pay them, just like Stockton. Few, though, owe as much
to one creditor as Stockton does to the California Public Employees Retirement
System, better known as CALPERS – $900 million.

It was that debt, the result of assumptions about
property tax revenues and developer fees made in the heyday of the housing
bubble during the last decade, which Klein said cinched his decision. The
bankruptcy filing had been challenged by big bond holders who claimed the city
isn’t really broke, just trying to evade paying all it owes.

It’s the same kind of debt that saddles San Bernardino,
Los Angeles and other cities. Voters in most such places have shown little if
any willingness to increase their taxes to help pay down debt, especially if
it’s to fund public employee pensions, even for police and firefighters.

But at least once, they voted for serious changes in city
pension obligations as a way out. That came last year in San Jose, where
Measure B passed with almost 70 percent of the vote, raising retirement ages
for new employees and increasing some employee pension contributions. The San
Jose move is believed to have been taken early enough to avoid bankruptcy.

“The city of Stockton could have and should have taken
the necessary steps to avoid bankruptcy,” claims Bob Williams, president of the
Virginia-based State Budget Solutions, a national non-profit group advocating
reduced municipal budgets and lower public employee pensions.

He cites Measure B as a prime example of what Stockton
did not attempt. But there are also differences. San Jose has kept up its
retirement system payments, for one thing.

The problem for some cities is that they've waited so
long it would take something more radical than Measure B to reduce their debt.
And state law prohibits them from reducing public employee pensions now being
paid.

So some have turned to bankruptcy and others may follow,
hoping federal law will trump state law and allow them to cut pension
obligations, by no means a sure thing and an issue that will almost certainly
end up before the U.S. Supreme Court.

In the meantime, bankruptcy risks many aspects of the
future of cities that declare it, something they should not forget when tempted
to follow Stockton’s sad example.